How do construction loans work?
A complete, plain-English guide to financing a new home build — how funds disburse, what you'll need, and which loan type fits your project.
A construction loan is short-term financing that pays for building a home in stages. Instead of one lump sum, the lender releases funds to your builder as work is completed, and you pay interest only on what's drawn. When the home is finished, the loan is either paid off or — with a one-time close loan — converts automatically into a permanent mortgage.
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How construction loans work, step by stepHow much down payment do you need?One-time close vs two-time closeConstruction loan requirementsFrequently asked questionsHow does a construction loan work, step by step?
A construction loan funds your build in draws tied to completed milestones — foundation, framing, roofing, and so on — rather than a single disbursement. During construction you typically make interest-only payments on the amount drawn so far, which keeps early payments low while the home goes up.
- Get pre-approved. The lender reviews your credit, income, and the project budget.
- Submit plans & budget. Detailed blueprints, a builder contract, and a line-item cost breakdown are required.
- Close & pay your down payment. This happens before any ground is broken.
- Draws fund the build. The lender inspects progress and pays the builder in installments.
- Convert or pay off. At completion, a one-time close converts to a mortgage; a two-time close is refinanced.
Because there's no finished home to use as collateral, construction loans carry stricter requirements and higher rates than a standard mortgage.
How much down payment do you need for a construction loan?
Most conventional construction loans require 20–25% down. Government-backed programs are lower: FHA one-time close can be as little as 3.5%, and VA and USDA one-time close loans may require 0% down for eligible borrowers. The exact figure depends on loan type, credit, and lender.
Here's how minimum down payment and credit expectations compare across the most common programs in 2026:
| Loan program | Min. down payment | Typical min. credit | Best for |
|---|---|---|---|
| Conventional construction-to-permanent | 5–20% (20% to skip PMI) | 620 | Most new-home buyers |
| FHA one-time close | 3.5% | 580 (lower with more down) | Lower credit / lower down |
| VA one-time close | 0% | Lender-set | Eligible veterans / service members |
| USDA one-time close | 0% | 640 | Eligible rural builds |
| Owner-builder | 20–25%+ | 680+ | Experienced self-builders |
When is it due? Your down payment is paid at closing, before construction begins — so plan to have those funds liquid early in the process.
One-time close vs two-time close: what's the difference?
The biggest structural choice is whether you close once or twice. A one-time close wraps construction and the permanent mortgage into a single loan and a single closing; a two-time close keeps them separate.
| One-Time Close | Two-Time Close | |
|---|---|---|
| Closings | One | Two |
| Closing costs | Paid once (lower total) | Paid twice (higher) |
| Rate lock | Locked up front | Re-priced at refinance |
| Flexibility | Less — terms set early | More — shop the permanent loan later |
| Best for | Most borrowers wanting simplicity | Custom builds, rate-shoppers |
What are the typical construction loan requirements?
- Down payment of 5–25% depending on program (see table above).
- Credit score generally 620+, higher for owner-builder.
- Debt-to-income ratio usually at or below 45%.
- Detailed plans, budget & builder contract — with a licensed contractor for most programs.
- Appraisal of the home's projected completed value.
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Down-payment and credit figures reflect general 2026 program guidelines compiled from public lender sources; actual terms vary by lender, location, and borrower profile. This guide is informational and not financial advice.